Treasury yields drop most in two months after auction

Drop in consumer confidence supported bonds early

By

DeborahLevine

NEW YORK (MarketWatch) -- Treasury prices extended gains on Tuesday, lowering yields on 10-year notes by the most in two months, after the government received strong demand from investors at its auction of 2-year notes, especially from a group that includes overseas central banks.

It was "a very solid auction as it appears that foreign accounts stepped up for 2-year notes again," said Bill O'Donnell, head of Treasury strategy at RBS Securities.

Bonds had been higher before the auction after a report showed U.S. consumer confidence dropped much more than expected, increasing the investment appeal of fixed-income assets as investors questioned the ability of the economy to recover.

The Treasury Department sold $44 billion in 2-year notes at a yield of 0.895%, lower than traders expected and an indication of strong investor demand. See Treasury release with results.

Bidders offered to buy 3.33 times the amount of debt sold, compared to an average of 3.21 times at the last four monthly auctions of the maturity, which were all for the same amount. It was the second-highest so-called bid-to-cover ratio since at least 2008.

Indirect bidders, a group that includes foreign central banks, bought 53.6%, the highest since July 2009. Direct bidders, a group that includes domestic money managers and that has been growing in recent months, purchased 8.2%, compared to an average of 15.3% of recent sales.

More of the auction going to direct or indirect bidders, as opposed to primary dealers, is deemed good for the government and the market. Primary dealers tend to turn around and sell much of the new purchases, weighing on prices.

Bernanke on deck

The auction comes on the eve of Federal Reserve Chairman Ben Bernanke's testimony to Congress. Analysts will be searching for any clarification regarding how the increase that the Fed announced in the discount rate last week fits into the central bank's bigger plan to eventually tighten U.S. monetary policy.

"Clearly today's participation levels indicate that Treasury participants are, for now, taking Ben Bernanke at face value," said Dan Greenhaus, chief economic strategist at Miller Tabak. "The hike in the discount rate is not part of a larger move towards tighter policy and should be treated separately."

On Monday, the government sold $8 billion in 30-year Treasury Inflation Protected Securities for the first time in nine years. The auction came at a yield higher than traders anticipated, indicating the government had to pay up to get the deal done.

However, analysts said that's not unusual for what is basically a new security and said that other ways of measuring demand -- the bid-to-cover ratio and amount bought by indirect and direct bidders -- were reasonably good. See Monday's bond column.

On Wednesday, the government will auction $42 billion in 5-year notes
TMUBMUSD05Y, -0.19%
followed by $32 billion in 7-year debt the next day.

U.S., European data

Bonds gained earlier after the Conference Board's index of consumer confidence sank 11 points in February, down to a reading 46.0 from an upwardly revised 56.5 in January. Economists surveyed by MarketWatch had been looking for a slight month-to-month drop, down to 55.5 points from the previously reported January level of 55.9. See story on consumer confidence.

Bonds showed little reaction earlier to the S&P/Case-Shiller home-price index, which showed prices in 20 U.S. cities fell 0.2% in December. See more on home prices.

Treasurys gained during European trading hours as a closely-watched measure of German business sentiment slipped. The Ifo Institute reported data that showed its business-sentiment index unexpectedly slipped during February, the first decline in ten months. Read more on Ifo survey.

"That gave a boost to oversold fixed-income markets, with equities selling off in Europe" and weighing in turn on U.S. equities, said John Spinello, Treasury strategist at Jefferies & Co.

Also supporting bonds, Bank of England Governor Mervyn King said that the economic recovery is still fragile and that risks to the outlook are still weighted to the downside. See more on Bank of England's King.

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